The Pound continued to test the resistance above 1.2600 versus the Euro but the UK currency suffered a sharp intraday loss versus the Dollar, falling by the most in two weeks on the session, after the degree of volatility sweeping through financial markets continued and oil prices tumbled a further $4 in New York.

In addition, the Pound also came under renewed selling pressure after the Bank of England Governor Mervyn King, said that inflation will peak in the short-term and the slow ‘sharply” in 2009, boosting the probability of an interest rate cut over the coming months.

The Pound also recorded losses against a basket of currencies, snapping an eight day winning streak versus the Euro as King wrote a letter of explanation to the Chancellor of the Exchequer Alistair Darling, saying that inflation will peak at 5.0% this year.

The annual pace of consumer price inflation exceeded the government’s 2.0% target and jumped to 4.7% year-on-year in August, the most since records began in 1997, while near 40% drop in oil prices has yet to feed through to the broader economy and ease price pressures on the stagnant UK economy.

Nevertheless, the tone of King’s comments yesterday suggests that the Bank of England are prepared to act amid the escalating financial crisis and as inflationary pressures begin to ease, the Bank of England will then have the scope to begin cutting interest rates.

The Pound subsequently declined to a low of $1.7796 before the opening in New York, falling 1.2% from the previous day’s close as the market began factoring in the probability of an impending UK rate reduction while King stressed that the MPC will re-evaluate their current stance in the next monthly meeting.

The turmoil surrounding financial markets continued yesterday as UK stocks slumped for a second consecutive day and the FTSE 100 Index fell to a three year low amid concerns that yet another financial institution will face bankruptcy as companies struggle to raise capital and prevent share prices from plummeting.

HBOS Plc, the UK’s largest mortgage provider, plunged an incredible 22% on the session after news broke that American International Group Inc fell 34% in New York following reports that the insurer’s credit ratings were cut, threatening efforts to raise funds in order to keep the company afloat.

Over $1.1 trillion has been wiped off the value of U.K shares this year as Banks are forced to seek emergency funding from the Bank of England with companies, including Barclays Plc and RBS Plc, struggle to cope with losses linked to the collapse of the U.S subprime mortgage market that currently top $120 billion across Europe.

The uncertainty and appetite for risk aversion is spreading through financial markets as the high-yielding currencies such as the New Zealand and Australian Dollar decline heavily with traders favouring less riskier assets in Japan.

In terms of economic data, the focus this morning will fall on the release of the minutes from the Bank of England’s last policy meeting after the MPC elected to hold interest rates at 5% and traders will pay particular attention to the voting pattern of the committee to gauge the prospect of any change in policy next month.

The Euro held on to the previous day’s gains against the Dollar and also remained largely unchanged versus the Pound after a report from the ZEW Centre for European Economic Research showed that German investor confidence rose for a second consecutive month.

The index of investor and analyst expectations rose to a reading of -41.1 from -55.5 in August after the overwhelming decline in oil prices and the recent drop in the Euro helped improve the outlook for economic growth.

The price of crude oil has fallen to $90 a barrel from a high of $147.27 in July while the Euro has lost 8% in value against the Dollar in the past three months, providing some relief to companies and consumers alike and that will provide some optimism that the Euro-zone economy can weather the current financial crisis.

The Dollar advanced against the Pound yesterday while the U.S currency also made gains versus the majority of major currencies amid speculation that the Federal Reserve will bailout AIG Inc and extend a loan to the troubled insurer.

Nevertheless, the Federal Open Market Committee elected to hold interest rates at 2.0% last night despite calls from some investors for a cut after the fourth biggest U.S investment bank Lehman Brothers Holdings Inc fell into bankruptcy and rocked financial markets worldwide.

The accompanying statement was fairly cautious in tone as policy makers said that “downside risks to growth and upside risks to inflation are of significant concern” while the committee will also monitor developments closely and act as necessary to “promote sustainable economic growth and price stability”.

Data Released 17th September

U.K 09:30 BoE Minutes (3/4 September)
U.K 09:30 Average Earnings (3 Months to July)
U.K 09:30 Claimant Count Unemployment (August)

U.S 11:00 CBI Industrial Orders (September)

EU 10:00 External Trade Balance (July)

U.S 13:30 Housing Starts (August)

- Permits

U.S 13:30 Current Account (Q2)

written by Adam Solomon